BBSW

The BBSW is the rate at which banks lend funds to each other on a short-term basis. It’s commonly measured by its spread to the Overnight Indexed Swap (OIS), which is derived from the RBA’s benchmark cash rate.

For context, the BBSW-OIS spread averaged around 55 basis points (0.55%) in the June quarter, Morgan Stanley (MS) said. That’s up from around 35 basis in the three months to March, and 25 basis points in the December quarter.

MS said the big four would need to increase mortgage rates by around 10 basis points to offset higher funding costs. (Macquarie raised rates by six basis points last week, following out-of-cycle hikes by smaller lenders).

“The potential for adverse outcomes from the Productivity Commission and ACCC inquiries still makes it difficult for the majors to contemplate mortgage repricing in the near term, but higher funding costs increase the probability,” MS said.

However, those funding costs were factored in by Morgan Stanley in May when it completed a re-rating of the banks following full-year results to March for Westpac, NAB and ANZ.

“We believe the recent re-rating already factors in more than 10 basis points of repricing,” Morgan Stanley said. The analysts now see “downside risk to our margin forecasts in 2H18”.

Deposit growth

“Investors have been focused on the end of the mortgage bull market, but we think they should also pay attention to household deposit growth,” MS said.

Such a scenario complicates the funding mix for Australian banks, given deposits account for around 60% of their overall funding.

St John told Business Insider that the trend could be explained by the continuation of government bond issuance at the same time as government revenues are rising — a combination which serves to draw liquidity out of the private sector.

Total deposits are comprised of accounts for both businesses and retail consumer, but MS highlighted the slowdown on the consumer side. They said household deposit growth has slowed from above 10% in 2016 to less than 6% today.

“In our view, this increases the potential for higher deposit rates and is a source of risk to margins which is not in our forecasts,” the analysts said.

The analysts have an even portfolio rating for ANZ and Westpac. ANZ has a more diverse business with different capital management options such as asset sales, but revenue headwinds prevented MS from choosing an over-weight position.

Despite pressure on margins as the mortgage bull market comes to an end, they said Westpac has a settled strategy and is consistent on costs.

The analysts are underweight NAB and Commonwealth Banks. They are also less positive towards the regionals, with underweight positions on Bendigo & Adelaide Bank and the Bank of Queensland.